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Reports Suggest Economy Is Warming Up

Industrial production and new home construction rose sharply last month, suggesting that the economy is overcoming high energy prices and rebounding from the summer slump. But a spike in consumer prices is also stoking worries that inflation might spread more broadly as the economy heats up.

The Federal Reserve reported yesterday that industrial production rose 0.7 percent in October, the fastest pace since July. In addition, the Commerce Department reported that new housing starts had recovered from a September dip to rise 6.4 percent last month.

Investors in financial markets seemed encouraged by the emerging panorama of economic strength, as prices of stocks and bonds rose sharply on the news.

"The manufacturing recovery continues to build broad momentum, evidenced by the fact that 16 out of 19 manufacturing sectors increased production last month," said John Engler, president of the National Association of Manufacturers.

Bruce Karatz, chairman and chief executive of the builder KB Home in Los Angeles, said: "We have seen continued strength in the housing market all year and it continues to this day. In spite of all the warnings."

Industrial production rose across all major market groups -- from consumer products to business equipment and nonindustrial supplies. Capacity utilization by industry rose to 77.7 percent, its highest level since May 2001.

Yet the recovering economy, coupled with higher oil prices and a weakening dollar, is pushing inflation higher. The Labor Department reported that consumer prices jumped 0.6 percent in October, rising at their fastest pace since May.

Coming on top of a surge in producer prices, which last month advanced at their quickest rate since 1990, the new evidence of economic vigor has some economists worrying that inflation, which has so far been mostly limited to energy and some other commodities, is trickling through the rest of the economy.

This is not the first time this year that economists have worried about resurgent inflation. Last spring, financial markets were briefly unnerved by a surge in oil prices, but quickly recovered when inflation did not extend to other areas. Instead, oil prices mainly depressed consumption, eating into consumers' purchasing power.

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Most of October's price increase was a result of higher energy prices, which rebounded from three consecutive months of decline to rise 4.2 percent last month. Hurricanes that devastated crops in Florida in August and September also contributed to a spike in food prices. Excluding energy and food prices, the so-called core rate of inflation advanced 0.2 percent.

A weak labor market is still acting as a drag on broader price increases, eroding the purchasing power of workers. Average hourly earnings fell 0.7 percent in October in real terms, and are still 0.5 percent lower than in October last year.

"The economy still has enough slack to avoid an upturn in inflation," said Avery Shenfeld, senior economist at CIBC World Markets in Toronto.

Oil prices have been receding recently. If they continue to decline, they will take some of the pricing pressure out of the mix.

There is mounting evidence, however, that inflation is extending beyond energy, as increases in the prices of oil and other commodities are making their way to consumers. Excluding food and energy, consumer prices have increased 2.4 percent at an annual rate during the first 10 months of the year. This is more than double the 1.1 percent increase in core prices last year.

"That's a fairly significant move up," said Henry Willmore, chief United States economist at Barclays Capital.

And inflation is picking up gradually across many products and services, from the price of household furnishings, which rose 1 percent in October, to rent, which moved up 0.2 percent. Prices of medical care services rose 0.4 percent, their steepest increase since July.

As the economy regains momentum, these price pressures should spread.

A look at the home decorating business provides an illustration. Nicholas Cichielo, chief executive of the Paint and Decorating Retailers Association in St. Louis, says business has been strong, with sales of paint up 4 percent from last year as a robust housing market fueled a redecoration bonanza.

But prices are up, too. "In the last six months many suppliers, whether in paint or wall coverings, have experienced heavy price increases," Mr. Cichielo said. "They are absorbing some of the increase but they are mostly passing it on."